Bank of America Corporation — Q3 2009 Form 10-Q
Reporting period: Three and nine months ended September 30, 2009. Amounts are in U.S. dollars; financial statement amounts are generally in millions. The company provides diversified banking and financial services. Results include Merrill Lynch from its January 1, 2009 acquisition; prior-period segment presentations were reclassified, but consolidated results were not.
Financial performance and condition
- Q3 earnings: Revenue, net of interest expense, was $26.0 billion, up from $19.6 billion a year earlier. Net interest income was $11.4 billion versus $11.6 billion; noninterest income was $14.6 billion versus $8.0 billion. The company reported a $1.0 billion net loss, or a $2.2 billion loss applicable to common shareholders, and diluted loss per share of $0.26, compared with net income of $1.2 billion and diluted EPS of $0.15.
- Nine-month earnings: Revenue was $94.6 billion versus $57.1 billion. Net income was $6.5 billion versus $5.8 billion, but income applicable to common shareholders fell to $3.0 billion from $4.9 billion; diluted EPS was $0.39 versus $1.09. Preferred dividends and a substantially larger average common share count affected common EPS.
- Credit costs and expenses: Q3 provision for credit losses rose to $11.7 billion from $6.5 billion; nine-month provision was $38.5 billion versus $18.3 billion. Q3 noninterest expense increased to $16.3 billion from $11.7 billion, including $594 million of merger and restructuring charges. Nine-month charges were $2.2 billion versus $629 million.
- Margins and operating metrics: Q3 fully taxable-equivalent (FTE) net interest yield was 2.61%, down from 2.93%; FTE efficiency ratio increased to 61.84% from 58.60%. Management attributed the margin decline mainly to lower-yielding acquired assets, lower loan balances and earlier asset-liability portfolio deleveraging.
- Credit quality: At September 30, the allowance for loan and lease losses was $35.8 billion, or 3.95% of loans, versus $23.1 billion and 2.49% at year-end 2008. Including unfunded commitments, the allowance for credit losses was $37.4 billion. Nonperforming loans and leases were $31.9 billion versus $16.4 billion at year-end; Q3 net charge-offs were $9.6 billion, up from $4.4 billion. Consumer mortgage, home equity, credit card and commercial real estate deterioration were significant contributors.
- Balance sheet and funding: Total assets were $2.251 trillion, up $433.1 billion from December 31, 2008, largely reflecting Merrill Lynch. Deposits were $974.9 billion; long-term debt was $456.3 billion, up from $268.3 billion. Shareholders’ equity was $257.7 billion versus $177.1 billion. Cash and cash equivalents were $152.4 billion versus $32.9 billion at year-end.
- Cash flow: For the first nine months, operating cash flow was $97.7 billion, investing cash flow was $207.8 billion, and financing cash flow was negative $186.1 billion; cash increased $119.6 billion. These figures include large balance-sheet and acquisition-related flows and should not be read as a measure of recurring earnings.
- Capital and liquidity: At September 30, the reported Tier 1 common, Tier 1, total risk-based capital and Tier 1 leverage ratios were 7.18%, 12.33%, 16.53% and 8.33%, respectively. Management reported parent-company “Time to Required Funding” of 32 months, versus 23 months at year-end, and a loan-to-domestic-deposit ratio of 102%, versus 118%.
Material changes versus comparable periods
- The quarter shifted from profit to loss despite higher revenue. Trading and investment-related income improved sharply, but elevated credit provisions and higher expenses outweighed the increase.
- Q3 trading account profits were $3.4 billion versus a loss of $384 million; investment and brokerage income was $2.9 billion versus $1.2 billion. Card income fell to $1.6 billion from $3.1 billion. Debt-security sale gains rose to $1.6 billion from $10 million.
- Global Markets reported Q3 net income of $2.2 billion versus a $588 million loss a year earlier. Global Card Services reported a $1.0 billion Q3 loss versus a $167 million loss and a $4.5 billion nine-month loss versus $1.2 billion of income. Home Loans & Insurance reported a $1.6 billion Q3 loss versus $54 million and a $2.9 billion nine-month loss versus $1.8 billion.
- Capital actions materially changed the share base: the company issued shares for the Merrill Lynch acquisition, raised approximately $13.5 billion through a common-stock offering and exchanged approximately $14.8 billion of preferred stock for common shares. Common shares outstanding rose to 8.65 billion from 5.02 billion at year-end 2008.
Outlook, commentary, risks and unusual items
- Management described some signs of economic stabilization late in Q3, but expected continued economic weakness and regulatory changes to affect results through the rest of 2009 and into 2010. It did not provide specific numerical earnings guidance; management said it did not expect impacts to be as significant as in the first nine months, subject to the timing of recovery.
- Unusual and market-sensitive items materially affected results: the company recorded $7.3 billion of pretax gains from sales of China Construction Bank shares during the first half and a $3.8 billion pretax gain on contributing merchant processing to a joint venture. It also recorded a $402 million pretax payment to terminate a proposed U.S. government asset-protection arrangement and a separate $425 million payment to the government in connection with terminating the term sheet.
- Effective January 1, 2010, new consolidation rules (SFAS 166 and 167) were expected to add approximately $121 billion of assets and $27 billion of risk-weighted assets, based on September estimates. The company estimated a 55–70 basis-point reduction in capital ratios, subject to regulatory rules and implementation assumptions.
- Key credit and market risks include worsening unemployment and housing conditions, further loan losses, commercial real estate stress, card securitization liquidity and excess-spread deterioration, valuation uncertainty in Level 3 assets, and counterparty and monoline exposure. The company estimated $5.4 billion of net mark-to-market exposure to monoline counterparties after valuation adjustments; it held no collateral against these derivative exposures.
- The company disclosed significant litigation and regulatory matters, including auction-rate securities claims seeking more than $2.3 billion in compensatory damages, as well as ongoing investigations and lawsuits related to the Merrill Lynch acquisition. Outcomes and potential losses were not clearly quantified in the supplied filing text.
- Pending business changes included agreements to sell First Republic Bank and Columbia Management’s long-term asset-management business, each expected to close in Q2 2010 subject to approvals and other conditions. The company also reported that it had exited the FDIC’s debt-guarantee program and expected to leave the transaction-account guarantee program at year-end.
Most important facts for investors to verify
- Whether rising delinquencies, nonperforming loans and charge-offs continue to drive provisions above revenue growth, particularly in residential mortgage, home equity, credit card and commercial real estate portfolios.
- How much of reported revenue and earnings depends on trading results, securities gains, the CCB sale, the merchant-joint-venture gain and other valuation-sensitive or nonrecurring items.
- Whether the company can sustain capital and liquidity levels after the 2010 consolidation changes, and how final regulatory capital treatment compares with the estimated 55–70 basis-point impact.
- The valuation, collateral and potential loss exposure associated with Level 3 assets, Merrill Lynch structured notes, derivatives, monoline counterparties and off-balance-sheet commitments.
- The progress and financial effects of Merrill Lynch integration, planned asset sales, regulatory changes, and the outstanding legal and regulatory proceedings.